Highlights of Report Number: †2011-40-124†to
the Internal Revenue Service Commissioners fortheSmall Business/Self-Employed Division and the Wage
and Investment Division.

IMPACT ON TAXPAYERS

Federal
law, along with associated regulations, procedures, and rulings, provides taxpayers
with tax relief for investment theft losses.†
The Internal Revenue Service (IRS) estimates that more than 19,200
taxpayers filed Tax Year 2008 tax returns claiming a combined total of more
than $8 billion in property income casualty and theft deductions.† Our review identified that taxpayers may be
erroneously claiming investment theft loss deductions.† Revenue losses associated with potentially
erroneous deductions could be substantial.

WHY TIGTA DID THE AUDIT

The number of
investment theft loss victims as a result of Ponzi schemes increased significantly
in Tax Years 2008 and 2009.† With the potentially large number of victims filing tax
returns claiming these losses, IRS officials issued guidance to minimize the
IRSís administrative burden and the burden on the victims of Ponzi schemes.† The objective of this review was to assess
the IRSís efforts to ensure the validity of investment theft loss deductions.

WHAT TIGTA FOUND

IRS processes are not identifying all taxpayers
claiming investment theft losses and taxpayers erroneously claiming investment
theft loss deductions.† Although
information is available on the tax returns claiming investment theft losses, the
information is not always being used to ensure that taxpayers are eligible for the
investment theft loss deduction.† As a
result, the IRS is not identifying the total number of taxpayers claiming these
losses.†

In addition, Casualties and Thefts (Form 4684) needs to be
redesigned to include additional information when taxpayers claim investment
theft loss deductions.† The additional
information could be used to ensure compliance.

Based on our review of a statistically valid sample
of 140 electronically filed Tax Year 2008 tax returns on which taxpayers
reported an investment theft deduction, TIGTA estimates that
1,788 (82 percent) of 2,177 taxpayers may have erroneously claimed
deductions totaling more than $697 million, resulting in revenue losses
totaling approximately $41 million.†
The potential revenue loss estimate is conservative in that it only
represents electronically filed tax returns for one year.

WHAT TIGTA RECOMMENDED

TIGTA recommended
that the IRS improve its process to identify taxpayers claiming investment
theft losses on tax returns, revise the Form 4684 to include additional information
on the investment theft loss deduction, establish a
Compliance Initiative Project to measure noncompliance for investment theft
loss claims, and review applicable flow-through return information to make
process changes as practicable.†

The IRS agreed with our recommendations and plans to
take corrective actions.

READ THE
FULL REPORT

To view the report,
including the scope, methodology, and full IRS response, go
to: †